Reporting Inventory

Reporting Inventory

Chapter 19Chapter 19

Review:

nPerpetual systemnPerpetual system

nPeriodic systemnPeriodic system

nInventory is an asset until it is sold, atwhich time it “becomes” the expenseCost of Goods Sold.nInventory is an asset until it is sold, atwhich time it “becomes” the expenseCost of Goods Sold.

Here is the problem:

Beg. Invent is 10 units @ $2Beg. Invent is 10 units @ $2

Purchased 20 units @ $3Purchased 20 units @ $3

Sold 15 units.Sold 15 units.

Which 15 were sold? Which 15 are still ininventory?Which 15 were sold? Which 15 are still ininventory?

Answer:

nSpecific I.D. - you know which oneswere sold.nSpecific I.D. - you know which oneswere sold.

nAverage: (10 x $2) + (20 x $3) = $80 / 30= $2.67 per unit cost.nAverage: (10 x $2) + (20 x $3) = $80 / 30= $2.67 per unit cost.

nFIFO: the 10 units from beg. Invent. + 5from purchase were sold.nFIFO: the 10 units from beg. Invent. + 5from purchase were sold.

nLIFO: the 15 from the most recentpurchases were sold.nLIFO: the 15 from the most recentpurchases were sold.

Why so many choices?

nFIFO: Gives a better Balance Sheet number- inventory reported at most recent costs.nFIFO: Gives a better Balance Sheet number- inventory reported at most recent costs.

nLIFO: Gives a better Income Statementnumber for CGS - most recent costs.nLIFO: Gives a better Income Statementnumber for CGS - most recent costs.

Which is better, LIFO or FIFO?

nSince CGS is an expense and thereforereduces net income AND taxable income, acompany should choose the method whichresults in the highest CGS.nSince CGS is an expense and thereforereduces net income AND taxable income, acompany should choose the method whichresults in the highest CGS.

uWhen prices are rising, this is LIFO.uWhen prices are rising, this is LIFO.

uWhen prices are falling, this is FIFO.uWhen prices are falling, this is FIFO.

Why not use FIFO for “books”and LIFO for the tax return?

nIRS says we can’t do that! (Too bad, itwould be the “best of both worlds”.)nIRS says we can’t do that! (Too bad, itwould be the “best of both worlds”.)

Inventory disclosure in financialstatements:

nMust tell F/S reader what cost flowassumption you are using.nMust tell F/S reader what cost flowassumption you are using.

nMust report inventory at LCM. (We do thisbecause of the conservatism principle.)nMust report inventory at LCM. (We do thisbecause of the conservatism principle.)

uA loss of inventory market value increasesCGS.uA loss of inventory market value increasesCGS.

Sometimes we have to estimateinventory.

nTwo methods commonly used:nTwo methods commonly used:

u1. Gross Profit method.u1. Gross Profit method.

u2. Retail method.u2. Retail method.

Gross Profit Method:

nUnU

p p

d d

t t

e e

t t

G G

P P

n“n“

b b

””

t t

p p

i i

t t

e e

( (

6 6

))

Retail Method:

nAllows retailer to take an inventory at retailprices and then “convert” those prices tocost.nAllows retailer to take an inventory at retailprices and then “convert” those prices tocost.

uFollow page 686.uFollow page 686.

Cash Flow Statement

nLast semester - direct method.nLast semester - direct method.

nThis chapter - indirect method. (We’ll coveronly the operating activities section & latercover the other two sections.)nThis chapter - indirect method. (We’ll coveronly the operating activities section & latercover the other two sections.)

nI will not lecture on this - follow theexample in your book.nI will not lecture on this - follow theexample in your book.

The End